An adjustment program consists of a comprehensive set of economic measures designed to achieve broad macroeconomic goals, such as an improvement in the balance of payments, a better utilization of productive potential, and an increase in the long-term rate of economic growth. These objectives are often linked; for instance, achievement of a stable rate of economic growth requires, among other things, a sustainable structure of the balance of payments. The adoption of such a program may be motivated by the presence in the economy of an imbalance between aggregate demand and aggregate supply that may create inflationary pressures or require unsustainably high levels of external borrowing, or both. In some cases, an external deficit may be latent (in the sense of being suppressed by an unusually low level of domestic economic activity or by an unduly restrictive trade and exchange system) and may reflect structural weaknesses in the economy that preclude the simultaneous achievement of macroeconomic balance and an adequate rate of economic growth. In either of these circumstances, Fund members may seek the advice and financial support of the Fund.
A fundamental objective of a Fund-supported adjustment program is to provide for an orderly adjustment of both macroeconomic and structural imbalances so as to foster economic growth while bringing about a balance of payments position that is sustainable in the medium term. Such an adjustment program generally takes the form of a set of policy intentions by the authorities that is judged by the Fund to warrant financial support. The program is usually formulated with the assistance of the Fund staff. Understandings pertaining to the use of monetary and fiscal policy to influence macroeconomic performance typically play a major role in adjustment programs. Use of these primary instruments of demand management is often supplemented by a variety of other measures, most prominently exchange rate policy, but also structural policies, such as pricing policies, incomes policies, trade policies, and specific aspects of taxation or public spending policies.
The Fund’s approach to economic stabilization, generally referred to as “financial programming,” is based largely on oral tradition. There is surprisingly little readily accessible written material on its theoretical underpinnings, in particular, on the interaction among various policy measures in achieving the ultimate objectives. To be sure, the analytical basis of the programs negotiated in the 1950s and 1960s was articulated and formalized in a number of papers by the Fund staff, principally by Polak (1957) and Robichek (1967, 1971).1 To many observers the approaches outlined in these papers remain the theoretical mainstay of all Fund-supported programs.2 Even the more recent published writings by Fund staff in the general area of financial programming closely follow the directions set by these contributions.3
Since the early 1970s, however, the conception and the structure of adjustment programs have gradually evolved and expanded. In part, modifications in thinking about these programs have arisen from major institutional and structural developments in the economies that the Fund has been called on to assist. Furthermore, several events in the 1970s, including the movement to a system of floating exchange rates among major currencies, large fluctuations in world prices of commodities, sharp increases in real interest rates in international credit markets, and an extended period of slow growth in major export markets, aggravated the adjustment problems of developing countries and seriously complicated the task of economic management. Finally, the design of Fund-supported adjustment programs has gradually absorbed many of the developments that have taken place in the study of macroeconomics and international economics.
The purpose of this paper is to describe the analytical framework underlying the design of Fund-supported adjustment programs. While it draws heavily on previous studies, it also attempts to identify theoretical developments that have taken place in financial programming in more recent years.4 Particular emphasis is placed on the response of an economy to the combination of measures that are part of the typical Fund-supported program. As will be stressed in the description of the body of theory underlying Fund-supported adjustment programs, the Fund’s approach to program design is eclectic. The paper will, it is hoped, serve to dispel the notion that these programs are all based on a particular view of the economy or on the convictions of a single school of economic thought. That money and monetary policy play an important role in determining balance of payments outcomes, and therefore clearly also in the design of adjustment programs, does not make Fund-supported adjustment programs necessarily “monetarist” in character.5 The concentration on monetary flows in such programs can be justified on several grounds, ranging from a view that the balance of payments is essentially a monetary phenomenon to the pragmatic reason that data on the monetary variables contain important macroeconomic information and are relatively more accurate and timely than data on real variables.6
It follows from the eclectic nature of the Fund’s approach that this paper could not pretend to offer a unified and unique theory underlying Fund-supported adjustment programs. There are various possible interpretations of the theoretical mechanisms forming the adjustment process, and consequently a variety of theoretical models can be used as the framework for constructing adjustment programs. While the paper does not describe in detail the practice of financial programming, it attempts to provide a description of the “state of the art” with respect to the theoretical nexus underlying that practice. In doing so, the paper deals exclusively with general issues and not with special characteristics of stabilization programs in specific countries or situations, thereby skirting the important fact that Fund-supported adjustment programs are tailored to the circumstances of the members with which they are negotiated. It may be noted, however, that, since Fund-supported programs in recent years have been solely with developing countries, the analysis of the paper is focused on the economic features typical of those countries.7 There is no discussion in this paper of the global effects of Fund-supported adjustment programs, a topic covered comprehensively in a recent Fund publication.8
The remainder of the paper is organized as follows. Section II describes the general approach to Fund-supported programs and the relationship among the main economic objectives and policy instruments that are central to such programs. Section III describes the basic framework for financial programming, relating the monetary and fiscal accounts to the balance of payments. The use of other major policy instruments—in particular those operating through the supply side, the exchange rate, and external debt management—and the channels through which they affect the balance of payments and growth are analyzed in Section IV. The concluding section summarizes the main theoretical issues raised in the paper.